Cross-border tax evasion is a problem for the EU and there is no reason to exclude EU member states from the tax haven assessment. Therefore, the EU needs a New Tax Deal. Jan Sarnowski and Piotr Arak set out the principles that could guide it.
Jan Sarnowski is the undersecretary of state at the ministry of finance in Poland; Piotr Arak is the head of the Polish Economic Institute, a governmental think-tank.
The theme of this year’s World Economic Forum in Davos was “Defining Stakeholder Capitalism”, which basically means that companies are accountable to more people than just to their owners. There is nothing more defining for the responsibility of corporations to act for people’s interest than to pay their fair share of taxes.
We propose seven steps that might be worth €170 billion per year.
In Davos, we presented our paper that showed the magnitude of the problem of aggressive tax optimisation, profit shifting and simple fraud in the EU. That’s a hole in public finances the size of the EU’s annual budget.
Profit shifting by multinational enterprises between different jurisdictions is a widespread practice that deteriorates the CIT revenue in the EU member states.
Out of the €170 billion the EU loses every year, €60 billion comes from artificial profit-shifting by multinational companies – moving earnings from a higher tax jurisdiction to a country with a lower tax rate – €46 billion due to moving wealth by rich individuals, and €64 billion due to cross-border VAT fraud,
Taxing profits in the country where the profits are actually produced should be the fundamental principle for organising tax systems worldwide. However, not all countries, including some EU member states, abide by this rule.
It is reported that about 80% of the profits shifted out of the EU countries are shifted to EU tax havens (as coined by the European Parliament), primarily Ireland, Luxembourg, and the Netherlands.
Poland is a whistleblower. We are not the country most affected by this practice but we have seen in recent years that reforming tax compliance can be achieved if you put money where your mouth is.
We need a New Tax Deal in the European Union. We have some easy recommendations that could be put into place by the European Commission with the cooperation of the biggest economies in Europe.
First, we need to revise the rules on income tax flow in the EU. If the recipient state’s ratio of passive income flow (dividends, interest, royalty payments) is above certain rational thresholds, the tax benefits should not be granted to the taxpayers.
Second, we can go a step further and include the EU Member States in the screening process for the grey- and blacklisted tax havens. The classification criteria for the lists should be fully precise and publicly available.
As cross-border tax evasion is, in the first place, an intra-EU problem, there is no reason to exclude the EU member states from the tax haven assessment.
The criteria for the assessment should, for example, include the legal facilities for suspicious capital flows. In an alternative option, the grey- and blacklisting process may concern not the entire tax regime, but specific solutions in each country that are the most harmful to the EU tax system cohesion.
Third, we could give the European Commission the power to impose sanctions on countries (including the EU Member States) that have been classified as tax havens. This should give the Commissions’ recommendations the power needed to have a real impact.
Fourth, one of the instruments could be the exclusion of companies registered in grey- and blacklisted countries from participation in public tenders in the EU area. Currently, tax haven-based companies win roughly 5% of the value of public contracts in the EU Member States. Public procurement is the perfect ground where governments can start pushing against tax haven abuse. Not only do they have additional motivation (the risk of conflict of interest), but they also enjoy powerful leverage as the contracting authorities.
Fifth, we should also establish an obligation for multinational enterprises to regularly disclose information on their tax strategies in a standardized format, applicable for all EU Member States. Corporations should present not only their tax results but also how they manage tax risk, their attitude to tax planning, how the business works, and any other relevant information relating to taxation.
Six, the challenge is also to boost cross-border cooperation in terms of access to and exchange of standardized data concerning tax information.
Finally, we may also talk about recalculation of the tax base by multinational enterprises in each EU country they operate in, taking into account disallowance for certain payments to related parties (interests, royalties, etc.). The solution is based on Base Erosion and Anti-Abuse Tax (BEAT), recently introduced in the United States. According to BEAT regulations, every large corporation calculates its tax liability at a standard tax rate and compares it to the liability at the lower BEAT rate, calculated after adding back to the tax base deductible payments such as interest, royalties, and certain service payments. The corporation must pay the higher liability of these two.
The new European Commission has taxation at its heart with Ursula van Der Leyen, Frans Timmermans, Valdis Dombrovskis and Margrethe Vestager committing to reforming tax systems in different spheres.
Maybe we must also look at the elephant in the room, at those who do not pay their fair share at this moment so we can finance the bold climate and innovation agenda. Let’s find that money.